Sputnikonomics

Spending on innovation

When President Obama, in his State of the Union address, laid out a plan for the U.S. to “win the future,” there seemed to be some sleight of hand at work. He said that the government needed to cut “excessive” expenditures lest we be buried beneath “a mountain of debt,” and called for a five-year freeze on domestic spending. But he also called for sharp increases in investments in infrastructure, education, and new technology, which will cost many billions of dollars. With no tax increases in the offing and the government running a $1.5-trillion deficit, a new “Sputnik moment” means adding to the mountain of debt.

Republicans were quick to attack Obama for proposing more spending on the heels of his 2009 stimulus plan. But Sputnikonomics involves something quite different. The stimulus was a Keynesian measure: spending by businesses and individuals had plummeted, so the government stepped in to plug a hole in demand. Obama’s new plan may have some stimulus-like effects—creating new jobs, say—but the focus is entirely different. Instead of trying to stimulate short-term demand, the plan seeks to improve our long-term growth rate by boosting supply: increasing the pace of innovation, and making workers more productive and commerce more efficient. In that sense, it’s a supply-side plan—a phrase we typically associate with Ronald Reagan—not a demand-side one.

Why do this when Washington is obsessed with tightening its belt? Because spending on infrastructure, R. & D., and education has the potential to create more value than it costs. The return on investment from the building of the Interstate Highway System in the nineteen-fifties and sixties has been estimated at thirty-five per cent annually. The economists Kevin Murphy and Robert Topel have suggested that the social benefits of medical research reach into the trillions of dollars. And investments in military technology during the original Sputnik moment gave us, among other things, satellites, the microchip, G.P.S., and the Internet, the cumulative benefits of which are incalculable.

Of course, when government is involved, there’s a danger of political considerations trumping economic ones, but our track record of using public money to foster innovation is good. And there’s reason to think that of late we’ve been skimping on potentially valuable investments, which may help explain why our long-term growth rate has slowed. Infrastructure is decaying; our workforce is less educated, relative to the rest of the world, than it once was; and for most of the past decade federal funding of research and development grew barely at all—as a percentage of G.D.P., it’s now about sixty per cent of what it was during the sixties.

The private sector, meanwhile, now devotes most of its R. & D. money to development, rather than to the kind of basic research that fuels breakthroughs. For much of the twentieth century, industrial labs at places like G.E., Xerox, I.B.M., and A.T. & T. were founts of innovation. (Bell Labs produced seven Nobel Prize winners in physics and a profusion of concrete inventions.) But that was in an era when such companies enjoyed near-monopolistic control of their markets and faced less short-term pressure from shareholders; they could invest heavily in work that didn’t yield an immediate return. Those days are gone, and American companies now do less basic research. Economists have long argued that companies will underinvest in R. & D. and infrastructure because so-called spillover benefits prevent their capturing all the value they produce. (Think of how much money companies other than Apple have made selling apps for the iPhone and the iPad.) And that’s precisely what we’re seeing now.

If spillover benefits are a drawback for corporations, they’re a huge boon to society, which is why it makes sense for government to try to foster them. (In 1998, the economists Charles Jones and John Williams showed that the socially optimal level of investment in R. & D. was two to four times its current rate.) Historically, at least, this was a bipartisan position. Alexander Hamilton argued for the “encouragement of new inventions and discoveries” by government. In the nineteenth century, an era of limited government, one of the few things that people were willing to spend money on was “internal improvements”—canals, railroads, and the like—and Abraham Lincoln supported these as being of “general benefit.” And Dwight Eisenhower created the Interstate Highway System and presided over the post-Sputnik boom in government-funded scientific research.

It’s hard to make a case for investing more when everyone believes we should be spending less, but there’s never been a better time. Interest rates are historically low, so borrowing is cheap. (Corporations have already realized this: they borrowed half a trillion dollars last year.) And the weak economy means that there’s less competition for labor and resources. Yet, instead of taking advantage of this, we’re too often doing the opposite. Only recently, a plan for a new tunnel under the Hudson River was killed. The tunnel would have reduced congestion, expanded commerce between New Jersey ports and New York, and created enormous long-term value for the entire region. But short-term budget constraints doomed it. This is a classic instance of eating your seed corn and of the way that fiscal “responsibility” can actually be irresponsible. At the moment, we’re spending too much on things that consume resources—like the military and earmarks—and not enough on things that create them. ♦

James Surowiecki is the author of “The Wisdom of Crowds” and writes about economics, business, and finance for the magazine.